Reinforce Savings Or Attack Debt? Advice for a Soldier

Money is a powerful motivator.

Just ask our military. It is handing out handsome bonuses to recruit as well as retain personnel. The amount soldiers get depends on the service branch and job specialty.

In October, the Army introduced a new "Active First" program that promises up to $60,000 in bonuses to recruits who opt for 30 to 48 months of active duty, then transfer to the National Guard.

Without this cash carrot, it might be difficult to maintain troop levels for the war in Iraq.

For many military personnel, the bonuses can make a big difference. That is, if the money is used wisely.

An Army captain serving in Mosul, Iraq, wanted to do the right thing with his bonus. George, who spoke on condition that I not use his last name, wrote to me asking how to best use $26,000 (after taxes) he received in exchange for agreeing to stay in the Army for at least another three years. The money would boost his family's total savings to $37,000. By the way, the couple is expecting a baby.

"My wife and I have discussed paying off one of our cars, which we owe over $14,000 on at 6 percent interest," George wrote in an e-mail. "Now that the money has hit the bank, my wife went wishy-washy. She wants to hold on to the money, and keep on making [car] payments for 30 more months. Our other debt is $1,267 a month for our mortgage, $3,300 owed on furniture, and $2,000 at Home Depot and on one credit card. I need some advice."

Here's what I recommended:

First, figure out what they must spend to run their household for three months (mortgage, food, cable, utilities, entertainment, etc.). This should also include any future child-care costs they anticipate with the new baby. Their monthly expenses -- including mortgage payments on a rental property in Florida -- come to about $3,500 a month (not including monetary supplements from the Army). That means they should have at least $10,500 in an emergency fund.

Next, they should set aside about $2,000 for what I call the "Life Happens Fund." This is the money you should use for unplanned expenses, such as car repairs.

After setting up these two funds, which should be kept separate from everyday checking or savings accounts, I advised George to tackle the couple's consumer debt.

I recommended they start not with the car but the $5,000 owed on furniture, to Home Depot and on the credit card. After tackling that debt, they should pay off the auto loan.